#143 - The Recession is Here and What Sports Like F1 and The NHL Mean to Cities
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In this week's episode of Reformed Millennials, Joel introduces his new co-host who dives into markets, the F1 Race in Miami, the impact of playoffs on cities and whether or Uber will ever make as much money as Yellow Cab.
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👉 For specific investment questions or advice contact Joel @ Gold Investment Management.
This weeks market update is long but brought to you by a fantastic Gavin Baker tweet storm.
First, a break down from Joel and then an explanation from Gavin on why today ISN’T the 2000 dot com bust.
One of the major characteristics of bear markets is very high correlations between stocks regardless of their current or expected fundamentals. We saw that last week when in the first half most stocks sold off together and in the second half they rallied together.
During market corrections, some religiously look for stocks that show relative strength. The premise is simple – if a stock tries to break out to a new 52-week high while the general market is selling off, it is likely to be a future momentum leader.
Keep a watch list of growth stocks that hold well and even try to make new highs when the market is in a correction but keep in mind that those growth stocks are not very likely to make big sustained moves until the market starts to climb.
We are in the midst of a bear market bounce. It could last only a few days or a few weeks. Any such climb would be classically defined as a climb of the “wall of worry”.
After a few months of selling, most market participants are not thinking about buying dips blindly and are not trusting the rallies. It will take a long time for this sentiment to change which means that excessive volatility and frequent reversals are still here to stay for the time being.
This is nothing like 2000.
Valuations for tech peaked in 2020.
At the 2020 peak on a cap weighted basis, the 10 largest tech companies in the Nasdaq traded at a 44% discount to the largest tech companies at the 2000 peak using NTM EPS and 58% discount using LTM EPS.
We are 21 months post peak valuation in 2020 and today’s multiples for the 10 largest tech companies on a cap weighted basis are 67% below the 2000 peak valuations on a NTM basis and 79% below on a LTM basis.
There is an even bigger divergence in actual business performance. TTM EPS for the 10 largest tech co’s *declined* 73% in the 21 months post peak valuation. TTM EPS for the 10 largest tech co’s today has *grown* 71% since peak valuations 21 months ago.
Because of this growth, today’s 10 largest tech stocks are significantly *cheaper* today, 21 months post peak valuation than the year 2000 stocks 21 months post their peak valuation despite the year 2000 stocks having declined 80%ish at this point past peak.
Valuation multiples for the top 10 have compressed 40% in the 21 months since the 2020 peak, which is *more* than the 31% compression in the 21 months post the 2000 peak.
Simultaneous multiple compression and fundamental EPS implosion was what killed tech in 2000.
To approximate a year 2000 style meltdown, EPS for the 10 largest tech companies would have to decline 73%.
This is not going to happen.
A 73% decline in EPS is not going to happen even in a severe recession given how many of today’s tech companies have either entirely or partly recurring revenues.
And for software, Covid showed that a “software contract is better than first lien debt.”
So much of the revenue for 2000 tech companies was “capex” for their customers that could easily be turned off or deferred.
Revenue for many of today’s large cap tech companies is open for their customers and their customers go out of business if they defer payment.
Am going to run the exact numbers but likely only 5-15% of revenue for the 10 companies from 2000 was recurring given the dominance of hardware and upfront software license revenue.
This number is *much* higher for today’s companies so EPS will be much more resilient.
Yes, internet advertising would shrink in a recession, but only slightly given any recession is likely to be one with *positive* nominal GDP growth and internet advertising is a nominal good. It simply is pricing. Even better than pricing power.
Y2K multiples would’ve taken the Nasdaq to a peak over 30,000. Instead it peaked at 16,000.
This is nothing like the year 2000 in terms of either valuations or bottoms up fundamentals.
Top down macro fundamentals are worse from an inflation perspective today and may end up worse from a rates perspective.
But valuations are super low given these companies growth rates, margins and ROICs both cross-sectionally and relative to their own longitudinal history.
We will see which ends being most important over the next 1, 3 and 5 years.
Time will tell.
But this is *nothing* like the year 2000 in any measurable, quantitative way for large cap public equities.
Maybe, the software companies that engaged in wildly irresponsible fund raising at multiple well over 100x ARR are comparable in some ways. Some SPACs for sure.
Reminder that no one is more at risk from high valuations than founders and employees. Sad but true.
But those software companies almost all have revenue, proven, repeatable business models and likely survive. The comparable companies in Y2K didn’t even have revenue. Or business models. They were essentially PowerPoint presentations (like some 2020 SPACs).
And I promise, for every large cap that anyone wants added to the 2020 comps, I can find a much more expensive large cap from 2000 that was growing slower with a lower ROIC and a more vulnerable business model.
And the same goes for SMID caps. I can beat any ridiculous example someone cares to provide from 2020 with multiple even more ridiculous companies from 2000.
💸Reformed Millennials - Post of The Week
David Sachs, ex-COO of Paypal and GP of Craft has an excellent recession playbook for entrepreneurs and investors that I watched on Saturday.
I learned A LOT.
SOME OF MY NOTES:
Public markets lead VC markets
Multiples in public markets are a benchmark for investors funding ideas in the public markets.
Public markets SAAS has seen multiples contract from 15X down to 5.5X NTM Revenues
The economy has a lot of uncertainty which is leading to frozen capital markets
Tiger Global has worked through 65% of its 18B investment fund.
Looking at 2/3 capital deployment reduction in the second half of 2022
Revenue for marketplaces should be gross margins/net revenue and not GMV
CAC payback is incredibly important.
HOW DOES THIS COMING RECESSION COMP TO RECESSIONS OF THE PAST:
Dot Com Crash 2000-2002 ~ 2-3 yrs
Great recession 08/09 ~1.5 years
FOR INVESTORS, THEIR FUNDRAISING BAR IS SIGNIFICANTLY HIGHER:
The great company features 300% revenue growth, 70% gross margins, Net dollar retention of 140%, CAC payback 6-12months, Burn multiple is 1 or less
The good company features 200+% revenue growth annually, 50% gross margins, Net dollar retention of 120%, 12-18 month CAC payback, and a burn multiple of 1-1.5
Bad - un 200% revenue growth, under 20% gross margins, net dollar retention under 100%, CAC payback under 24 months, and a burn multiple over 2
Burn multiple = Net burn / Net new ARR (the lower the multiple, the more efficient it is.)
extend the runway to 30 months if possible (how much money do you have to run the company)
Current A-C rounds are raising at 20 X ARR
immediate layoffs if you’re burn multiple is 2 or less
freeze spending at a bare minimum
focus on your CAC payback and improves margins more than Net Dollar retention
earlier the stages of your startup, the more you can justify product development and R&D spend
The best time to build a business is in a recession. Other than fundraising, everything is more manageable. Advertising is cheaper, employees are cheaper, and of higher quality during tough times, it's a great time to course-correct and find your "product-market fit".
🐦 Twitter Thread of The Week 🐦
F1 Twitter Thread from Pomp:
My boy Anas explaining inflation with an Arabic POV:
🔮Best Links of The Week🔮
🛢️ U.S. Strategic Petroleum Reserve drops to lowest level since 1987
🌱 India open to exporting wheat to needy nations despite ban
🛡️ Carlyle to buy U.S. defense contractor ManTech for $3.9 billion
⛔ Sweden’s plans for NATO membership hit snag as Turkey says no
₿ $3 billion in bitcoin was sold in an attempt to save UST stablecoin